Bernanke brings continuity

Ben S. Bernanke will take over as chairman of the Federal Reserve when Alan Greenspan retires at the end of January, a month shy of his 80th birthday.

Other than his proclivity to set specific inflation targets, which Bernanke reaffirmed in his recent confirmation hearings, the Greenspan-Bernanke transition appears to promise few surprises and only modest change.

Greenspan leaves the economy in good shape. But he has hardly been the economic superhero mythmakers would have us embrace. During his tenure, which began in August 1987, the purchasing power of the dollar has decreased 42 percent. Greenspan's tenure also has been marked by two consistent failures: the failure to address speculative bubbles as they form and bank supervision failures that have triggered government bailouts. He bequeaths these problems to his successor.

Optimists would argue that we suffered "only" a 42 percent depreciation of the dollar over the last 18 years. Others, such as Lee Hoskins, former president of the Federal Reserve Bank of Cleveland, would consider such performance unacceptable for the central reserve currency of the world. In Hoskins' view, "Zero is the only acceptable inflation rate for a central bank's monetary policy."

Just as Bernanke inherits Greenspan's problems, Green-span inherited various problems from his predecessor, Paul Volcker: the effects of the international payments crises of the 1980s, the savings and loans crisis that would become evident soon after Greenspan assumed office, a 1987 stock market crash, and the bursting of the commercial real estate bubble that sent prices plummeting in the Northeast and along coastal areas.

The recurring speculative bubbles have not happened on their own. They were stimulated by the Fed's "easy money" policies and have been reinforced, in all likelihood, by the expectation of future bailouts. The "Greenspan put option," as financial market analysts describe it, may be the major legacy Greenspan leaves his successor.

Bernanke will take over the Fed in February with the economy growing at a rate of about 3.5 to 4.0 percent annually if current economic trends continue. He also will be taking over at a time when energy and non-agricultural commodity prices are at or near peak levels in nominal dollars and with year-to-year inflation rates around 4.7 percent for all consumer prices and 2 percent for "core" inflation (without food and energy).

Bernanke comes into office with a reputation for great intelligence and plain speaking (a refreshing change from the obfuscations emanating from the chairman's office during the Volcker and Greenspan years). His extensive research and writing indicate the new chairman favors increasing the transparency of monetary policy decision-making, believes the Fed should attempt to manage aggregate economic performance through monetary policy, and favors inflation "targeting," perhaps in the 1 percent to 3 percent range. This last characteristic distinguishes him from Greenspan, who refused to be pinned down on specific inflation targets.

Probably the greatest weaknesses of Bernanke's ideas are related to the Achilles heel of all recent Fed chairmen since William McChesney Martin (1951-1970): failure to address price bubbles as they are forming, which Martin called "taking the punch bowl away just when the party gets going good," and bank supervision failures that inevitably require political solutions, such as bailouts.

Bernanke's writings do display a proclivity to manage the economy actively through "forecast-based policies," which rely, of course, on the quality of data feeding the forecasts. Such policies attempt to predict the future health of the economy by analyzing current economic data as well as anticipated economic, demographic and policy changes.

Because of this reliance on economic forecasting, Bernanke, like his predecessors, may stumble on occasion, due to bad data, bad forecasts, political pressures, or all of the above.

Overall, however, Bernanke's ascension to the Fed chairmanship provides one important plus: continuity in a world scarred by uncertainty.